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Luc de la Durantaye, Chief Investment Strategist and CIO for CIBC Asset Management.

Early, I think the important development in 2019 was the pivot of the Federal Reserve early in 2019. Facing continued tension in trade dispute between the U.S. and a number of its trading partners, the Federal Reserve stopped its hiking cycle renormalization that they did in 2018 and started to ease monetary policy for 2019. I think that was the broad-based support for financial markets both from a fixed income perspective where yields declined, the long end and equity markets rallied. In fact, when we look at the performance of the equity markets pretty much across the board, it was — predominantly in the case of the U.S. and European markets — 80 to 90% of the rise was an expansion of multiple, an expansion of valuation, and not as much supported by growth in sales or growth in earnings. Fast forward to 2020, that’s the starting point where we’re having in many space, we have low interest rates because of accommodative policy, and we have high price earning multiple, particularly in the U.S. because of the supporting monetary policy.

So that, for us, comes with a balancing act. One is it’ll be difficult to continue the same performance in 2020. We have more modest expectations of return for equities because price earning expansion is going to be difficult. Yet, because we see a continued gradual recovery that will be supported by earnings’ growth, which will continue, economic activity will continue, and there’ll be some support from an economic perspective because we expect continued expansion. That being said, again, this has been surprising because this is now by far the longest economic expansion in the history, and then that’s somewhat surprising to see such an elongated economic cycle. But that being said, given that you do have this continued expansion, equity markets should continue to perform OK but certainly not to the same degree.

When we think about which region, then we have again the surprising outperformance of the S&P 500 that we think 2020 might be the year where the equity in the U.S. will lag other markets. The U.S. equity market has been supported by a number of difficult-to-repeat features. The change in profit margins have continued to go higher and higher in for the U.S. equity market. Now we’re facing very tight labour market and increasing wages, and that’s going to put downward pressure on profit margins.

The change in PE was more pronounced in the U.S. than anywhere else in the world. So the PE levels are elevated, so that’s going to be difficult to repeat for the U.S. market. Net share buybacks also has been predominant in the U.S. and more absent in the rest of the world, so that’s less repeatable over time. So we could see other markets, like the Canadian markets, like some parts of the European markets and certainly emerging markets that have not seen their valuation increase as much do a little bit better in 2020.

Supported also by an emerging market, there’s a number of countries that have lowered their interest rates, and that will be certainly supportive for their economic activity. We think about China, we think about India, think about Mexico. There’s a number of markets that have lowered their interest rates, which will be supportive for economic activity.

Finally, what muddies the water, both from an equity perspective and a currency perspective, is the development in the Middle East. The background of it is that it seems that the U.S. has become more energy independent. We got to remember that since late last year, the U.S. has become a net exporter of oil, so they’re more independent of the Middle East from an energy-related perspective. So they’ve become, maybe they want to disengage from the Middle East, because they’re not dependent on oil anymore. That creates a vacuum of leadership in the Middle East and creates more tension. So over time I think that’s an element that could be recurring that we’re going to have more disruptions in the Middle East as the withdrawal of the U.S. economy, the U.S. policy creates a vacuum, a power vacuum. Then Iran is taking control of that, trying to expand its influence, and that’s sort of muddied with Russia, Turkey, Syria and China that are all vying for some influence in the Middle East because they are more impacted by oil prices. They are more dependent on oil prices. So I think that complicates this geopolitical element.

So the consequences of that will be more volatility in the market. Remember last year, we’ve seen very low volatility in financial markets. For the Canadian dollar in particular, that might be the one trigger that could support the Canadian dollar stronger. Remember all the other fundamentals don’t necessarily are favorable for the Canadian dollar, but more uncertainty and volatility in the Middle East with higher oil prices could temporarily support the Canadian dollar.

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